Westpac endorses bonds

Westpac Banking Corp
has voiced its support for the introduction of a covered bond market in Australia, but conceded its effectiveness would depend on the volume of securities issued.

Treasurer
Wayne Swan
has proposed permitting Australian banks to issue covered bonds for the first time as part of his package to boost competition in banking.

Covered bonds, which are cheaper to issue than conventional debt, would diversify the sources of funds banks have available to them.

They are controversial because they allow bondholders to stake a claim on a bank’s asset base in the event of a default, subordinating the rights of bank deposit holders.

Mr Swan would circumvent this by changing the Banking Act so that the rights of depositors are not compromised.

Westpac chief financial officer
Phil Coffey
told the Senate inquiry into banking competition on Friday that there were global precedents for a successful covered bond market.

“Markets around the world have demonstrated that covered bonds price considerably cheaper than a bank can borrow funds in its own name and that will have a benefit for us in terms of reducing the overall cost of funding to the industry," Mr Coffey said.

“The extent to which it is significant will really depend on what the size of the covered bond market or program is that we’re allowed to pursue and that’s now being worked through in discussions between the government and our primary regulator.

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“The industry’s obviously keener for that to be larger and the regulator’s probably keener for that to be larger."

The Australian Prudential Regulation Authority, which is charged with enforcing the Banking Act, has already signalled that it would work with the government to produce the right balance between bank and depositor interests.

New Zealand permits banks to issue covered bonds and Westpac New Zealand undertook an issue last week.

Analysts have estimated that a a cap of 5 per cent of a bank’s assets will be enforced.

Covered bonds are not usually associated with second-tier and smaller lenders because they would struggle to get the AAA rating on their issuance that covered bond investors desire.

For that reason, the inclusion of covered bonds in the Treasurer’s bank competition package drew criticism that it would only benefit the big banks. But Westpac’s submission to the inquiry hypothesised that smaller banks could tap the market by pooling their assets together.

“We think that there are possibilities for smaller players to still get the advantage of a covered bond market by pooling the mortgages into a vehicle that then issues the covered bond," Mr Coffey told the inquiry.

“It’s not as straightforward as a bank doing it in its own name, but it’s not to say that it can’t be done and we’re aware that credit unions are already talking about finding ways to pool funding mechanisms."

When asked by a senator about the impact upon depositors and whether consumers would need to be educated about their rights, Mr Coffey said that was up to APRA.

He indicated that such a market posed little danger to depositors because of the way in which bank balance sheets had evolved. Deposits account for roughly half of major Australian banks’ balance sheets.

“If you think about the depositor protection, they’ve got say, for 50¢ of deposits, $1 of assets protecting the depositor today," he said.

“So our argument has been that there is some proportion of our funding that could go into a covered bond market that allows us to raise these monies more cheaply and still not put the depositor at risk.

“With such a big buffer already, we think that’s quite doable, it’s certainly the way that other regulators around the world have looked at it."

Australian Competition and Consumer Commission chairman
Graeme Samuel
will appear before the banking inquiry on Tuesday morning, and has said the ACCC holds no specific view on industry competition.